MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

COST EQUATION Required:

1
. Cost Estimation Equation, Total Cost Horngren a. Compute the variable cost per unit.
Write a linear cost function equation for each of the following conditions. Use y for estimated b. Compute the total fixed cost.
costs and X for activity of the cost driver.
6
a. Direct manufacturing labor is $10 per hour. . High-Low Method – Variable Cost Ratio, Fixed Cost L&H
b. Direct materials cost $9.20 per cubic yard. A controller is interested in analyzing the fixed and variable costs of indirect labor as related to
c. Utilities have a minimum charge of $1,000, plus a charge of $0.05 per kilowatt-hour. direct labor hours. The following data have been accumulated:
d. Machine operating costs include $200,000 of machine depreciation per year, plus $75 of Month Indirect Labor Cost Direct Labor Hours
utility costs for each day the machinery is in operation. March $2,880 425
April 3,256 545
2
. High-Low Method - Cost Equation, Total Cost Horngren May 2,820 440
Wimmer’s Storage ran its freezer in February, a slow month, for 360 hours for a total cost of June 3,225 560
$57,600. In July, a peak month, the freezer ran for 720 hours for a total cost of $82,080. July 3,200 540
August 3,200 495
Required:
a. What is the cost estimating equation for the department if hours of freezer use are used Required:
as the cost driver? Determine the amount of the fixed portion of indirect labor expense and the variable rate for
b. What is the estimated total cost at an operating level of 500 hours? indirect labor expense, using the high and low points method. (Round the variable rate to
3
three decimal places and the fixed cost to the nearest whole dollar.)
. High-Low Method – Unit Variable Cost, Fixed Costs L&H
Bennco has an average unit cost of $18.50 at a volume of 100,000 units. At 200,000 units the 7
. High-Low Method – Cost Equation, Total Cost Horngren
average unit cost is $14.25. The Wildcat Company has provided the following information:
Units of Output 30,000 Units 42,000 Units
Required:
Direct materials $ 180,000 $ 252,000
a. Compute the variable cost per unit.
Workers' wages 1,080,000 1,512,000
b. Compute the total fixed cost.
Supervisors' salaries 312,000 312,000
4 Equipment depreciation 151,200 151,200
. High-Low Method – Variable Cost Ratio, Fixed Costs L&H
Maintenance 81,600 110,400
Genner Company earned $125,000 on sales of $750,000. It earned $225,000 on sales of
Utilities 384,000 528,000
$1,000,000.
Total $2,188,800 $2,865,600
Required:
a. Find the variable costs as a percentage of sales. Required:
b. Find the total fixed costs. Using the high-low method and the information provided above,
a. identify the linear cost function equation and
5
. High-Low Method – Unit Variable Cost, Fixed Costs L&H b. estimate the total cost at 36,000 units of output.
Danner has an average unit cost of $22.50 at a volume of 400,000 units. At 500,000 units the
average unit cost is $20.50.
Exercises & Problems Page 1 of 18
MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS
8
. High-Low Method Cost Equation, Cost Driver Horngren The owner considers these months to be relatively normal; however, in the month with sales of
Tessmer Manufacturing Company produces inventory in a highly automated assembly plant in $1,950, the Boutique was closed for over two weeks for repainting and installing new
Olathe, Kansas. The automated system is in its first year of operation and management is still carpeting.
unsure of the best way to estimate the overhead costs of operations for budgetary purposes.
For the first six months of operations, the following data were collected: Required:
Observation Machine-hours Kilowatt-hours Total Overhead Costs Determine the variable cost rate and fixed costs using the high-low method.
January 3,800 4,520,000 $138,000
10
February 3,650 4,340,000 136,800 . High-Low Method – Variable Costs & Fixed Costs, Income Statement L & H 10e
March 3,900 4,500,000 139,200 The chief accountant of Laredo, Inc. prepared the following income statements, in thousands.
April 3,300 4,290,000 136,800 April May
May 3,250 4,200,000 126,000 Sales $1,100.0 $1,160.0
June 3,100 4,120,000 120,000 Cost of sales 670.0 688.0
Gross margin $ 430.0 $ 472.0
Required: Selling and administrative expenses 370.0 382.0
a. Use the high-low method to determine the estimating cost function with machine-hours as Income before taxes $ 60.0 $ 90.0
the cost driver.
b. Use the high-low method to determine the estimating cost function with kilowatt-hours as Required:
the cost driver. 1. Determine the fixed and variable components of cost of sales and of selling and
c. For July, the company ran the machines for 3,000 hours and used 4,000,000 kilowatt- administrative expenses.
hours of power. The overhead costs totaled $114,000. Which cost driver was the best 2. Prepare income statements for April and May using the contribution-margin format.
predictor for July? Comment on the differences between the previous statements and the ones that you
prepared.
9
. High-Low Method – Variable Costs & Fixed Costs L & H 10e
The owner of Bed and Bath Boutique regularly uses part-time help in addition to full time
employees. Some part-time help is needed every day for miscellaneous chores, and the METHOD OF LEAST SQUARES REGRESSION ANALYSIS
owner arranges for additional hours based on her estimates of sales for the following week. 11
. Least Squares – Unit Variable Cost & Total Fixed Costs Barfield
The following is a record of the wages paid to part-time employees at recent monthly sales A company owns two automobiles that are used by employees on company business, usually
volumes. for short trips. Mileage and expenses, excluding depreciation, by quarters were as follows
Sales Wages Paid to Part-Time Help during a typical year (quarters instead of months are used to simplify the arithmetic):
$ 8,210 $ 629 Quarter Mileage Expenses
1,950 558 First 3,000 $ 550
6,340 710 Second 3,500 560
17,650 1,360 Third 2,000 450
18,100 1,350 Fourth 3,500 600
13,800 1,130 12,000 $2,160
15,040 1,466
5,050 675
11,000 1,014
Exercises & Problems Page 2 of 18
MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

Required: BREAK-EVEN CHART

14
Determine the variable cost per mile (nearest tenth of a cent) and the fixed costs per quarter, . Terminology on Break-Even Chart
using the method of lease squares. A traditional break-even chart is illustrated in Figure 20-2.
12
. Simple Regression – Interpretation of Results L&H Required: Carter & Usry
The statistician of RST, Inc. has developed the following cost-prediction equation, using Identify each letter on the chart, using the proper terminology.
observations from 12,000 to 30,000 machine hours.
Y = $236,837 + $3.7625X, r-squared = .81, standard error = $24,363
Y = total maintenance cost, X = machine hours

Required:
a. Find the predicted maintenance cost at 25,000 machine hours.
b. Will maintenance cost at zero machine hours be $236,837? yes no Circle the correct
answer.
c. About 68% of the time, maintenance cost should be within what amount of the predicted
value?
13
. Simple Regression – Interpreting Results Horngren
The new cost analyst in your accounting department has just received a computer-generated
report that contains the results of a simple regression program for cost estimation. The
summary results of the report appear as follows:
Variable Coefficient Standard Error t-Value
Constant 35.92 16.02 2.24
Independent variable 563.80 205.40 2.74

r2 = 0.75

Required:
a. What is the cost estimation equation according to the report?
b. What is the goodness of fit? What does it tell about the estimating equation?

Exercises & Problems Page 3 of 18

MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

PROFIT PLANNING The president tells you that cost of sales is all variable and that the only other variable cost is
15
. Incremental sales Barfield 4e commissions, which are 10% of sales, and are included in the “other expenses” category.
Brunswick Industries has annual sales of $2,500,000 with variable expenses of 60 percent of
sales and fixed expenses per month of $40,000. By how much will annual sales have to Required:
increase for Brunswick Industries to have pretax income equal to 30 percent of sales? 1. Determine the profit that the company expects to earn.
2. Determine fixed costs, the break-even point, and the margin of safety.
16
. Contribution Margin Ratio, Fixed Costs L&H 3. If sales are $700,000, what will profit be?
Scooter Company earned $150,000 on sales of $1,000,000. It earned $330,000 on sales of 4. The presidents wants a $120,000 profit. Expected unit volume is the same as for the
$1,400,000. previous statement. By what percentage must the company increase its selling price to
achieve the goal? Assume the per-unit cost of sales remains constant.
Required:
19
a. Find the contribution margin ratio. . CVP analysis for an airline L & H 10e
b. Find the total fixed costs. A recent annual report of Delta Air Lines contained the following data, in millions of dollars
Operating revenues $16,741
17
. BEP, Cost Structure Options (Difficult) Horngren Operating expenses $15,003
Karen Hefner, a florist, operates retail stores in several shopping malls. The average selling Operating income $1,738
price of an arrangement is $30 and the average cost of each sale is $18. A new mall is Load factor (percentage of available seat-mile occupied) 72.9%
opening where Karen wants to locate a store, but the location manager is not sure about the Break-even load factor 64.8%
rent method to accept. The mall operator offers the following three options for its retail store
rentals: Required:
1. paying a fixed rent of $15,000 a month, 1. Determine the variable costs as a percentage of revenue for Delta Air Lines. (Hint: Find
2. paying a base rent of $9,000 plus 10% of revenue received, or total revenue and total cost at breakeven, then use the high-low method.)
3. paying a base rent of $4,800 plus 20% of revenue received up to a maximum rent of 2. Determine fixed operating costs for Delta Air Lines.
$25,000. 3. Determine what operating income Delta Air Lines would have earned had it flown its
aircraft 73.9% full (one percentage point higher than it actually did).
Required: 4. What does your answer to requirement 3 tell you about how to be successful in the airline
a. For each option, compute the breakeven sales and the monthly rent paid at break-even. industry?
b. Beginning at zero sales, show the sales levels at which each option is preferable up to
20
5,000 units. . Relationships L & H 10e
Answer the following questions, considering each situation independently. You might not be
18
. Percentage income statement (Difficult) L & H 10e able to answer the questions in the order they are asked.
The president of Milliard industries has developed the following income statement showing 1. A company earned $200,000 selling 100,000 units at $8 per unit. Its fixed costs are
expected percentage results at sales of $800,000. $400,000.
Sales 100% A. What are variable cost per unit?
Cost of sales 60% B. What is total contribution margin?
Gross margin 40% C. What would income be if sales increased by 5,000 units?
Other expenses 30%
Income 10%
Exercises & Problems Page 4 of 18
MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

2 A company has return on sales of 20%, income of $50,000, selling price of $10, and a 9. If the company wants an after-tax profit of $45,000 on its expected sales volume of 50,000
contribution margin of 40%. units, what price must it charge?
A. What are fixed costs? 10. If the company wants a before-tax return on sales of 16% on its expected sales volume of
B. What are variable costs per units? 50,000 units, what price must it charge?
C. What are sales in units? 11. The company is considering offering its salespeople a 5% commission on sales. What
D. What are sales in dollars? would the total sales, in dollars, have to be in order to implement the commission plan and
3. A company has return on sales of 15% at sales of $400,000. Its fixed cost are $90,000; still earn the planned pre-tax income of $65,000?
variable costs are $25 per unit.
A. What are sales in units?
B. What is contribution margin per unit? SALES MIX IN UNITS & IN DOLLARS
22
C. What is income? . Product profitability L & H 10e
Gerber company produces three models of pen and paper sets, regular, silver and gold. Price
21
. Comprehensive Problem L & H 10e and cost data are as follows.
After reviewing its cost structure (variable costs of $7.50 per unit and monthly fixed costs of Regular Silver Gold
$60,000) and potential market, Forecast Company established what it considered to be a Selling price $10 $20 $30
reasonable selling price. The company expected to sell 50,000 units per month and planned Variable costs 6 8 15
its monthly results as follows. Monthly fixed cost are $200,000.
Sales $500,000
Variable costs 375,000 Required:
Contribution margin $125,000 1. Which model is most profitable per unit sold?
Fixed costs 60,000 2. Which model is most profitable per dollar sales?
Income before taxes $ 65,000 3. Suppose the sales mix in dollars is 40% Regular, 20% Silver, and 40% Gold.
Income taxes (at 40%) 26,000 a. What is the weighted-average contribution margin?
Net income $ 39,000 b. What is the monthly break-even point?
c. What sales volume will yield a profit of $30,000 per month?
Required: 4. Suppose the sales mix in dollars is 30% Regular, 30% Silver, and 40% Gold.
Using the preceding information, answer the following questions independently. a. What is the break-even point?
1. What selling price did the company establish? b. What sales volume is necessary to earn $30,000 per month?
2. What is the contribution margin per unit? 5. Suppose that the sales mix in units is 40% Regular, 20% Silver, and 40% Gold.
3. What is the break-even point in units? a. What is the weighted-average unit contribution margin?
4. If the company determined that a particular advertising campaign had a high profitability of b. What is the break-even point in total units?
increasing sales by 3,000 units, how much could it pay for such a campaign without c. How many total units must Gerber sell to earn $30,000 per month?
reducing its planned profits?
5. If the company wants a $60,000 before-tax profit, how many units must it sell?
6. If the company wants a 10% before-tax return on sales, what level of sales, in dollars,
does it need?
7. If the company wants a $45,000 after-tax profit, how many units must it sell?
8. If the company wants an after-tax return on sales of 9%, how many units must it sell?
Exercises & Problems Page 5 of 18
MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS
26
DEGREE OF OPERATING LEVERAGE & MARGIN OF SAFETY . BEP, Margin of Safety, Sensitivity Analysis Horngren
23
. Operating leverage, margin of safety Barfield 4e Alex Miller, Inc., sells car batteries to service stations for an average of $30 each. The variable
One of the products produced by Orlando Citrus is citrus Delight. The selling price per half- cost of each battery is $20 and monthly fixed manufacturing costs total $10,000. Other
gallon is $4.50, and variable cost of production is $2.70. total fixed costs per year are monthly fixed costs of the company total $8,000.
$316,600. The company is currently selling 200,000 half –gallons per year.
A. What is the margin of safety in units? Required:
B. What is the degree of operating leverage? a. What is the breakeven point in batteries?
C. If the company can increase sales in units by 30 percent, what percentage increase will it b. What is the margin of safety, assuming sales total $60,000?
experience in income? Prove your answer using the income statement approach. c. What is the breakeven level in batteries, assuming variable costs increase by 20%?
D. If the company increases advertising by $41,200, sales in units will increase by 15 d. What is the breakeven level in batteries, assuming the selling price goes up by 10%, fixed
percent. What will be the new break-even point? The new degree of operating leverage? manufacturing costs decline by 10%, and other fixed costs decline by $100?
24
. Degree of Operating Leverage & Profit Sensitivity H&M SENSITIVITY ANALYSIS
27
Prull Corporation had the following income statement for 1995: . Indifference point L & H 10e
Sales $50,000 Travelco sells one of its products, a piece of soft-sided luggage, for $60. Variable cost per unit
Variable costs 30,000 is $34, and monthly fixed costs are $60,000. A combination of changes in the way Travelco
Contribution margin $20,000 produces and sells this product could reduce per-unit variable cost to $28 but increase monthly
Fixed costs 8,000 fixed costs to $104,000.
Net income $12,000
Required:
Required: 1. Determine the monthly break-even points under the two available alternatives.
a. Calculate the operating leverage ratio. 2. Determine the indifference point of the two alternatives.
b. If sales increase by 20 percent, what will be the percentage change in income? 28
c. If sales increase by $15,000, how much will income increase? . Sensitivity of variables L & H 10e
Canston Jellies expects the following results for the coming year.
Planned sales in cases 50,000
25
. BEP, Variable Cost Ratio L & H 10e Selling price $25
Mound Company has a before-tax return on sales of 9% and a 25% margin of safety. Current Variable costs $18
sales are $800,000. Total fixed costs $300,000

Required: Required:
a. Calculate break-even sales. Answer the following questions, considering each independently.
b. Find Mound's variable cost percentage. 1. Which of the following would reduce planned profit the most?
a. A 10% decrease in selling price.
b. A 10% increase per case in variable costs.
c. A 10% increase in fixed costs.
d. A 10% decrease in sales volume.

Exercises & Problems Page 6 of 18

MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

2. Which of the following will increase planned profit the most? percentage.
a. A 10% increase in selling price. d. Determine Speedy Mouse Inc.’s margin of safety in units, in sales dollars, and as a
b. A 10% decrease per case in variable costs. percentage.
c. A 10% increase in sales volume. e. Compute Speedy Mouse Inc.’s degree of operating leverage. If sales increase by 25
d. A 10% decrease in fixed costs. percent, by what percentage would before-tax income increase?
3. If the selling price declined by 10%, how many cases would have to be sold to achieve the f. How many mice must the company sell if it desires to earn $996,450 in before-tax profits?
planned profit? g. If Speedy Mouse Inc. wants to earn $657,800 after tax and is subject to a 20 percent tax
4. If the selling price increased by 20%, by how much could variable cost per case increase rate, how many units must be sold?
and the planned profit be achieved? h. How many units would the company need to sell to break even if its fixed costs increased
by $7,865? (Use original data.)
29
. Changes in operations L & H 10e i. Speedy Mouse Inc. has received an offer to provide a one-time sale of 4,000 mice to a
Bart Packard operates the 15th Street Parking Lot, leasing the lot from the owner at $12,000 network of computer superstores. This sale would not affect other sales or their costs, but
per month plus 10% of sales. Packard is thinking about staying open until midnight. He now the variable cost of the additional units will increase by $ 0.60 for shipping and fixed costs
closes at 7p.m. Keeping the lot open requires paying an additional $800 per week to will increase by $18,000. the selling price for each unit in this order would be $20. Based
attendants, with increases in utilities and insurance being another $100 per week. The lot on quantitative measurement, should the company accept this offer? Show your
pays a 5% city tax on its total revenue. The parking charge is $0.80 per hour. calculations.

Required:
1. Suppose that Packard expects additional business amounting to 2,000 hours per week.
Should he stay open till midnight?
2. How much additional business, stated in hours, does Packard need to break even on the
additional hours of operation?
30
. CVP single product—comprehensive Barfield 4e
Speedy Mouse Inc. makes a special mouse for computers. Each mouse sells for $25 and
annual production and sales are 120,000 units. Costs for each mouse are as follows:
Direct material $ 6.00
Direct labor 3.00
Variable overhead 0.80
Variable selling expenses 2.20
Total variable cost $12.00

Total fixed overhead $589,550

a. Calculate the unit contribution margin in dollars and the contribution margin ratio for the
product.
b. Determine the break-even point in number of mice.
c. Calculate the dollar break-even point using the contribution margin ratio, and as a
Exercises & Problems Page 7 of 18
MANAGEMENT SERVICES COST BEHAVIOR & CVP ANALYSIS

SOLUTIONS

Exercises & Problems Page 8 of 18

1
. Cost Estimation Equation, Total Cost
a. y = $10X
b. y = $9.20X
c. y = $1,000 + $0.05X
d. y = $200,000 + $75X
2
. High-Low Method - Cost Estimation Equation, Total Cost
a. Slope (variable costs) = ($82,080 - $57,600) / (720 - 360) = $68
Constant (fixed cost) = $82,080 - (720 x $68) = $33,120
Estimating equation = $33,120 + $68 x Hrs
b. Total costs of 500 hours = $33,120 + $68(500) = $67,120
3
. High-Low Method – Unit Variable Cost, Fixed Costs
a. $10.00 {[($14.25 x 200,000) - ($18.50 x 100,000)]/(200,000 - 100,000)}
b. $850,000 ($2,850,000 - $10 x 200,000)
4
. High-Low Method – Variable Cost Ratio, Fixed Costs
a. 60% {1 - [($225,000 - $125,000)/($1,000,000 - $750,000)]}
b. $175,000 [$1,000,000 x (1 - 60%) - $225,000]
5
. High-Low Method – Unit Variable Cost, Fixed Costs
a. $12.50 {[($20.50 x 500,000) - ($22.50 x 400,000)]/(500,000 - 400,000)}
b. $4,000,000 ($9,000,000 - $12.50 x 400,000)
6
. High-Low Method – Variable Cost Ratio, Fixed Cost
Indirect Labor CostDirect Labor HoursHigh$3,225560Low 2,880425Difference$ 345135 Variable rate = $345 ÷ 135 =
$2.556 per direct labor hourFixed cost = $3,225 - ($2.556 x 560) = $1,794

7
. High-Low Method – Cost Equation, Total Cost
a. Variable cost = ($2,865,600 - $2,188,800)/(42,000 - 30,000)= $56.40
Fixed cost = $2,865,600 - $56.40(42,000) = $496,800
Cost function is y = $496,800 + $56.40X

b. Output level of 36,000 units = $496,800 + $56.40(36,000) = $2,527,200 total cost

8
. High-Low Method Cost Equation, Cost Driver - Tessmer Manufacturing Company
a. Machine-hours:
Slope coefficient = ($139,200 - $120,000)/(3,900 - 3,100) = $24.00 per machine-hour
Constant = $139,200 - ($24 x 3,900) = $45,600
Machine-hour estimating equation = $45,600 + $24X

b. Kilowatt-hours:
Slope coefficient = ($138,000 - $120,000)/(4,520,000 - 4,120,000) = $0.045 per kilowatt-hour
Constant = $138,000 - ($0.045 x 4,520,000) = $(65,400)
Kilowatt-hour estimating equation = -$65,400 + $0.045KWH

c. July's estimated costs:

with machine-hours = $45,600 + $24(3,000) = $117,600
with kilowatt-hours = -$65,400 + $0.045(4,000,000) = $114,600
The best estimator for July was the kilowatt-hour cost driver.
9
. Cost Formula, High-Low Method
The variable cost rate is about 5.2% of sales, and fixed costs are about $412.
Sales WagesHigh$18,100 $1,350Low 5,050 675Difference$13,050 $ 675Change in
cost divided by change in volume ($675/$13,050) = 5.2% rounded
Substituting 5.2% in the total cost formula at the low volume level:
Fixed costs + Variable costs = Total costs
F + (5.2% x $5,050) = $675
F = $412 rounded

Note to the Instructor: This relatively simple problem emphasizes three important points. First, the observations used in
calculating the variable and fixed components of a mixed cost are the high and low points for the independent variable,
not for the dependent variable. (Students misunderstanding this point will use sales volumes of $1,950 and $15,040.)
Second, the points to be used must be within the relevant range. (Students misunderstanding this point will use sales
volumes of $1,950 and $18,100.)
The third, and more general, point demonstrated by this problem is the need to understand the facts of the situation. A
grasp of the facts is necessary if the student is to question whether the observations for sales volumes of $2,000,
$17,000, and $18,000 are outside the relevant range, given that the low and high cost observations occur at $1,950 and
$18,100. In this case, the owner calls in part-time help based on the estimate of sales for the coming week, and it is to
be expected that the owner's estimates are sometimes off by a wide margin. Errors in estimates result in wages being
higher or lower than predicted using a formula based on actual sales. Thus, when actual sales were $15,040, the owner
might have expected much larger volume in one or more weeks and committed to more part-time help (who had to be
paid!). Similarly, the facts given about the period with $1,950 sales suggest that that level of volume is below the
relevant range and should be disregarded.
10
. High-Low Method for Manufacturing Company
1. Cost of sales: 30% of sales $$ variable, $340.0 fixed
S&A expenses: 20% of sales $$ variable, $150.0 fixed
Cost of SalesS&A ExpensesCost at high volume$688.0$382.0Cost at low volume 670.0 370.0Differences$ 18.0$
12.0Divided by difference in sales$ 60.0$ 60.0Variable components30%20%Cost at high volume$688.0$382.0Less variable
cost:$1,160.0 x 30% 348.0$1,160.0 x 20%______ 232.0Fixed components$340.0$150.0

2.
April MaySales$1,100.0 $1,160.0 Variable costs:Manufacturing at 30%$330.0
$348.0S&A at 20% 220.0 550.0 232.0 580.0Contribution margin550.0 580.0Fixed
costs:Manufacturing340.0 340.0S&A 150.0 490.0 150.0 490.0Income$ 60.0 $
90.0Several comments apply here. First, some students do not understand that recasting income statements does
not change profit, only the form of the statement. Second, the contribution margin format allows us to do CVP
analysis, which we could not with the functional income statements. We can, for example, determine the break-
even point because we know that contribution margin is 50% (100% - 30% - 20%) and total fixed costs are $490.0:
$490.0/50% = $980.0
We can also calculate sales volumes required for target profits and do other planning that is impossible without
knowledge of cost behavior.
11
. Least Squares – Unit Variable Cost & Total Fixed Costs
XYXYX21ST3,000$550$1,650,0009,000,0002ND3,5005601,960,00012,250,0003RD2,000450900,0004,000,0004TH3,5006002,10
0,00012,250,00012,000$2,160$6,610,00037,500,000 = 12,000/4 = 3,000/miles per quarter = $2,160/4 = $540b =
$6,610,000 - 4 (3,000) ($540) = $130,000 = $.087/mile $37,500,000 - 4 (3,000) (3,000) $1,500,000a = $540 -
($.087) (3,000) = $279TC = $279 + .087/mile
12
. Simple Regression – Interpretation of Results
a. $330,900 ($236,837 + $3.7625 x 25,000)
b. No, zero is outside the relevant range.
c. $24,363, the standard error
13
. Simple Regression – Interpreting Results
a. y = $35.92 + $563.80X
b. Goodness of fit is 0.75. It measures how well the predicted values match the actual observations. In this case, the
equation passes the goodness of fit test because it is substantially above 0.30, the threshold of acceptance.
14
. Terminology on Break-Even Chart
Lettered Item in Break-Even ChartTerminologyAFixed cost areaBVariable cost areaCProfit areaDBreak-even pointELoss
areaFTotal cost lineGSales lineHFixed cost lineIy-axisJx-axis
15
. Incremental sales
Let Y = level of sales that generate pretax income = 30% of sales, then:
Y - 0.60Y - ($40,000 × 12) = 0.30Y
0.10Y = $480,000
Y = $4,800,000.

Since existing sales are $2,500,000, sales would need to increase by $4,800,000 - $2,500,000 = $2,300,000.
16
. Contribution Margin Ratio, Fixed Costs
a. 45% ($330,000 - $150,000)/($1,400,000 - $1,000,000)
b. $300,000 [$1,000,000 x 45%) - $150,000]
17
. BEP, Cost Structure Options
a. Option 1 N = Breakeven units
$30N - $18N - $15,000 = 0
$12N - $15,000 = 0
N = $15,000/$12 = 1,250 units
Rent at breakeven = $15,000

Option 2 N = Breakeven units

$30N - $18N - 0.10($30N) - $9,000 = 0
$9N - $9,000 = 0
N = $9,000/$9 = 1,000 units
Rent at breakeven = $9,000 + (0.10 x $30 x 1,000) = $12,000

Option 3 N = Breakeven units

$30N - $18N - 0.20($30N) - $4,800 = 0
$6N - $4,800 = 0
N = $4,800/$6 = 800 units
Rent at breakeven = $4,800 + (0.20 x $30 x 800) = $9,600

b. Option 3 from 0 to 1,400 units for $4,800 plus $6 per unit.

Option 2 from 1,401 to 2,000 for $9,000 plus $3 per unit.
Option 1 above 2,000 for $15,000.

Option 1 equals Option 2 when sales are 2,000 and favors Option 1 above 2,000 units.
$15,000 = $9,000 + 0.10($30N); $6,000 = $3N; N = 2,000
Option 1 equals Option 3 when sales are 1,700 and favors Option 1 above 1,700 units.
 $15,000 = $4,800 + 0.20($30N); $10,200 = $6N; N = 1,700 units
18
. Percentage Income Statement
1. $80,000 $800,000 x 10%

2. $160,000 fixed costs, $533,333 break-even point, ($160,000/30%) and $266,667 margin of safety ($800,000 -
$533,333)
Variable costs are 70% of sales--cost of sales of 60% plus 10% commission--so contribution margin is 30%. To find
fixed costs,
Total costs at $800,000 sales $800,000 - $80,000 profit $720,000
Total variable costs ($800,000 x 70%) 560,000
Total fixed costs $160,000

3. $50,000
Contribution margin ($700,000 x 30%) $210,000
Fixed costs 160,000
Profit $ 50,000

Or, the decreased sales of $100,000 decrease profit by $30,000 ($100,000 x 30% CM%), from $80,000 to $50,000.

4. 5.55% The easiest way to approach this requirement is to use the basic profit equation. Cost of sales remains at
$480,000, ($800,000 x 60%).
S - $480,000 - .1S - $160,000 = $120,000
.9S = $760,000
S = $844,444
Percentage increase = 5.55% ($44,444/$800,000)
As proof,
Sales $844,444
Cost of sales, as before 480,000
Gross margin 364,444
Commission ($844,444 x 10%) 84,444
Contribution margin 280,000
Fixed costs 160,000
Profit $120,000
19
. Delta Airlines CVP Relationships
1. The key is to find revenues and costs at break-even to be able to use the high-low method.
Revenue and cost at break-even = $14,881 ($16,741/.729) x .648
$15,003 - $14,881 $122
So, = = 6.56% variable component
$16,741 - $14,881 $1,860

2. The fixed component is $13,905 million, $14,881 - ($14,881 x $0.0656)

3. $1,953 million
Revenue, $16,741/.729 x .739 $16,971
Operating expenses
Variable at 6.56% $ 1,113
Fixed 13,905
Total operating expenses 15,018
Operating income $ 1,953

4. The lesson is that an airline, or any other company with very high fixed costs and low variable costs, lives and dies
 by volume. The calculation in requirement 3 shows that each percentage point adds over $215 million ($1,953 -
$1,738 = $215) to operating income. Of course, each drop reduces operating income by the same amount.
20
. Relationships
1. (b) $600,000 $400,000 + $200,000
(a) $2.00 $8 selling price less $6 contribution margin per unit ($600,000/100,000)
(c) $230,000 $200,000 current income + additional contribution margin of $30,000 (5,000 x $6), or 105,000 x $6 =
$630,000 total contribution margin less $400,000 fixed costs = $230,000

2. (d) $250,000 $50,000/20%

(c) 25,000 units $250,000/$10
(b) $6 $10 x (100% - 40%)
(a) $50,000 ($250,000 x 40%) - $50,000 profit

3. (c) $60,000 $400,000 x 15%

(a) 10,000
Sales $400,000
Total contribution margin ($60,000 + $90,000) 150,000
Variable costs $250,000
Variable cost per unit $25
Number of units sold ($250,000/$25) 10,000
(b) $15 $150,000 CM/10,000 units
21
. Review Problem, Including Income Taxes (35-40 minutes)
1. $10 ($500,000 sales/50,000 units)

2. $2.50 ($10 selling price - $7.50 variable cost)

variable cost = $375,000/50,000 units = $7.50

3. 24,000 units ($60,000 fixed costs/$2.50 contribution margin

4. $7,500 (3,000 units x $2.50 contribution margin per unit)

5. 48,000 units ($60,000 target profit + $60,000 fixed costs)/$2.50

6. $400,000 $60,000 fixed costs/(25% contribution margin - 10% ROS)

7. 54,000 units
Desired after-tax profit $ 45,000
Divided by 60% = pre-tax profit $ 75,000
Fixed costs 60,000
Required contribution margin $135,000
Divided by $2.50 unit CM = 54,000 units

8. 60,000 units
Desired after-tax return 9%
Divided by 60% = pre-tax return 15%
Sales = $60,000/(25% - 15%)= $600,000
$600,000/$10 selling price = 60,000 units

9. $10.20 per unit

Desired after-tax profit $ 45,000
Divided by 1 - tax rate 0.60
 Required pre-tax profit $ 75,000
Fixed costs 60,000
Required contribution margin $135,000
Divided by unit volume 50,000
Equals required unit contribution margin $ 2.70
Plus variable cost 7.50
Selling price $ 10.20

10. $10.36 per unit, let P = selling price

50,000P – (50,000 x $7.50) - $60,000 = 0.16P x 50,000
P = $10.357

11. $625,000
Contribution margin, $10.00 - ($7.50 + $0.50) $2.00
Contribution margin percentage, $2/$10 20%
Required contribution margin, $60,000 + $65,000 $125,000
Divided by 20% equals required sales $625,000
22
. Product Profitability

1. Gold is the most profitable per unit sold, because its contribution margin per unit is highest.

2. Silver is the most profitable per dollar of sales because its contribution margin percentage is highest.
RegularSilverGoldContribution margin$ 4$12$15Divided by selling price$10$20$30Contribution margin
percentage40%60%50%
3. (a) 48%
Regular Silver Gold
Contribution margin percentages 40% 60% 50%
Sales mix percentage, in dollars 40% 20% 40%
Weighted-average contribution margin 16% + 12% + 20% = 48%

(b) The break-even point is $416,667 ($200,000/48%)

(c) Volume required for a profit of $30,000 is $479,167 ($200,000 + $30,000)/48%

4. (a) $400,000 ($200,000/50%)

Regular Silver Gold
Contribution margin percentages 40% 60% 50%
Sales mix percentage 30% 30% 40%
Weighted contribution margin 12% + 18% + 20% = 50%

(b) $460,000 (($200,000 + $30,000)/50%)

5. (a) $10
Regular Silver Gold
Contribution margin per unit $4 $12 $15
Sales mix percentage 40% 20% 40%
Weighted-average contribution margin $1.60 + $2.40 + $6.00 = $10.00

(b) 20,000 ($200,000/$10)

(c) 23,000 ($200,000 + $30,000)/$10 = $230,000/$10

23
. Operating leverage, margin of safety
a. Sales ($4.50 × 200,000) $900,000
Variable Costs ($2.70 × 200,000) (540,000)
Contribution Margin $360,000
Fixed Costs (316,600)
Net Income $ 43,400

BEP = $316,600 ÷ .4 = $791,500

Margin of safety, dollars: $900,000 - $791,500 = $108,500
Margin of safety in units: $108,500 ÷ $4.50 = 24,111 units

b. $360,000 ÷ $43,400 = 8.29

c. Income will increase by: 8.29 × 30% = 249%

Proof:
Sales ($4.50 × 200,000 × 1.30) $1,170,000
Variable Costs ($2.70 × 200,000 × 1.30) (702,000)
Contribution Margin $ 468,000
Fixed Costs (316,600)
Net Income $ 151,400

($151,400 - $43,400) ÷ $43,400 = 249%

d. BEP = ($316,600 + $41,200) ÷ 0.4 = $894,500

Sales ($4.50 × 200,000 × 1.15) $1,035,000
Variable Costs ($2.70 × 200,000 × 1.15) (621,000)
Contribution Margin $ 414,000
Fixed Costs (357,800)
Net Income $ 56,200

Operating leverage = $414,000 ÷ $56,200 = 7.37

24
. Degree of Operating Leverage & Profit Sensitivity
a. $20,000/$12,000 = 1.6667
b. 1.6667 x 0.2 = 0.33334, or 33.33% increase
c. $15,000 x 0.4 = $6,000
25
. BEP, Variable Cost Ratio
a. $600,000 ($800,000 x 75%)

b. 64%
Sales Total Cost
$800,000 $728,000 ($800,000 x 91%)
$600,000 $600,000 break-even
$728,000 - $600,000
= 64%
$800,000 - $600,000
26
. BEP, Margin of Safety, Sensitivity Analysis
a. N = Breakeven units
$30N - $20N - $10,000 - $8,000 = 0
$10N - $18,000 = 0
N = $18,000/$10 = 1,800 batteries
 b. Margin of safety = $60,000 - ($30 x 1,800) = $6,000
c. N = Breakeven units
$30N - $24N - $10,000 - $8,000 = 0
$6N - $18,000 = 0
N = $18,000/$6 = 3,000 batteries
d. N = Breakeven units
$33N - $20N - $9,000 - $7,900 = 0
$13N - $16,900 = 0
N = $16,900/$13 = 1,300 batteries
27
. Indifference Point

1. Alternative #1 Alternative #2
Fixed costs $60,000 $104,000
Divided by contribution margin:
Selling price $60 $60
Variable cost 34 28
Contribution margin $26 $32
Equals break-even point, in units 2,308 3,250

2. 7,333 units We can solve this using either total costs or total profit. Let Q = volume. Using total costs,
Alternative #1, Total Costs = Alternative #2, Total Costs
Fixed costs + variable costs = Fixed costs + variable costs
$60,000 + $34Q = $104,000 + $28Q
$ 6Q = $44,000
Q = 7,333
Using profit,
($60 - $34)Q - $60,000 = ($60 - $28)Q - $104,000
$26Q - $60,000 = $32Q - $104,000
$6Q = $44,000
Q = 7,333
Thus, if managers expect volume to exceed 7,333 units, they should prefer alternative 2 because it will give higher
profits than alternative 1 above that volume. The reverse is true for volumes below 7,333 units.

Note to the Instructor: It is necessary to work with profit if total costs are not the same at the volume where profits are
the same. This occurs if the selling price differs between the alternatives. Here, the selling price is the same, but we
show the technique for completeness.
28
. Sensitivity of Variables

1. Item (a) reduces profit the most (yielding a loss, in fact). Profits are computed below using two approaches. The
first shows an answer resulting from the simple equation sales - variable costs - fixed costs = profit. The second
approach uses contribution margin and compares total contribution margin with fixed costs.

(a) ($75,000) (50,000 x $25 x 90%) - ($18 x 50,000) - $300,000 or

[50,000 x ($22.50 - $18)] - $300,000

(b) ($40,000) (50,000 x $25) - (50,000 x $18 x 110%) - $300,000 or

[50,000 x ($25 - $19.80)] - $300,000

(c) $20,000 (50,000 x $25) - (50,000 x $18) - ($300,000 x 110%) or

[50,000 x ($25 - $18)] - $330,000
 (d) $15,000 (50,000 x 90% x $25) - (50,000 x 90% x $18) - $300,000 or
[45,000 x ($25 - $18)] - $300,000

2. Item (a) produces the largest profit.

(a) $175,000 (50,000 x $25 x 110%) - (50,000 x $18) - $300,000 or

50,000 x ($27.50 - $18) - $300,000

(b) $140,000 (50,000 x $25) - (50,000 x $18 x 90%) - $300,000 or

[50,000 x ($25 - $16.20)] - $300,000

(c) $85,000 (50,000 x 110% x $25) - (50,000 x 110% x $18) - $300,000 or

[55,000 x ($25 - $18)] - $300,000

(d) $80,000 (50,000 x $25) - (50,000 x $18) - ($300,000 x 90%) or

[50,000 x ($25 - $18)] - $270,000

3. 77,778 units, rounded, an increase of 55.6%

Profit at planned volume and original price [50,000 x ($25 - $18)] - $300,000 $50,000
Required volume at reduced price: ($300,000 + $50,000)/($22.50 - $18) 77,778

4. $5, the same as the increase in selling price ($25 x 20% = $5).

Note to the Instructor: This problem illustrates the sequence and degree of sensitivity in a particular case. However,
some of the relationships will usually hold in other cases. So long as price exceeds variable cost, profit will be more
sensitive to changes in price than to equal percentage changes in variable cost. Also, changes in price will have greater
effects on income than will equal percentage changes in volume. (In both cases revenue increases by the given
percentage, but with the price change total variable costs remain the same, unless all variable costs are a constant
percentage of sales.) The effects of changes in fixed costs are probably less than those of the others. Only if fixed
costs are extremely high will changes in them have greater effects on profit than will equal percentage changes in other
variables.
29
. Changes in Operations

1. Extending the hours of operations appears wise. Packard can expect an additional profit of $460 per week,
computed as follows:
Revenues (2,000 x $.80 per hour) $1,600
Costs to achieve additional revenue:
Variable costs:
Additional rent on lease (10% of additional revenue) $160
Additional city tax (5% of additional revenue) 80
Total additional variable cost (15%) $ 240
Fixed costs:
Additional salaries for attendants $800
Additional utilities and insurance 100
Total additional fixed cost 900
Total additional costs 1,140
Increase in profit $ 460

2. About 1,324 hours

Fixed costs to be covered, from requirement 1 $ 900
Contribution margin from additional revenue $0.80 - 15% of $0.80
(from requirement 1) $0.68
 Hours required to offset additional costs ($900/$0.68) 1,323.5

Note to the Instructor: The $12,000 paid to the owner of the lot is, of course, irrelevant because it will not change
regardless of the number of hours the parking lot remains open. Even at this early stage in the course, most students
are likely to recognize this fact and deal only with incremental costs in their solutions, but it may be worthwhile to point
out this fact specifically in reviewing the solution.
30
. CVP single product—comprehensive
a. Dollars per unit Percent
Sales $25 100%
Variable costs 12 48
Contribution margin $13 52%

b. BEP = $589,550  $13 per unit = 45,350 mice

c. BEP = $589,550  0.52 = $1,133,750

d. MS, in units = 120,000 - 45,350 = 74,650 mice

MS, in dollars = ($25×120,000) - $1,133,750 = $1,866,250
MS, percentage = $1,866,250  $3,000,000 = 62.21%

e. Current sales (120,000 × $25) $3,000,000

Variable costs (120,000 × $12) 1,440,000
Contribution margin $1,560,000
Fixed costs 589,550
Income before taxes $ 970,450

DOL = $1,560,000  $970,450 = 1.61 (rounded)

Percentage increase in income = 25% X 1.61 = 40.25%

f. Required sales = ($589,550 + $996,450)  $13 per mouse = 122,000 mice

g. Pretax equivalent of $657,800 = $657,800  (1 - .20) = $822,250

Required sales = ($589,550 + $822,250)  $13 per mouse = 108,600 mice

h. BEP = ($589,550 + $7,865)  $13 per mouse = 45,955 mice

i. Additional sales ($20 × 4,000) $80,000

Additional VC: ($12.60 × 4,000) (50,400)
Additional Contribution margin $29,600
Additional fixed costs (18,000)
Additional pretax income $11,600